As more new apartment units come on line on a seemingly daily basis, many commercial banks are starting to tap the brakes on construction deals, raising rates and lowering leverage levels.
A year ago, the market was awash in deals that reached up to a 65% and 70% loan-to-cost ratio (LTC). That’s no longer the case. Today, brokers and borrowers are seeing commercial banks having much more appetite for deals lower down the scale, in the 60% LTC range.
“The commercial banks are carefully scrutinizing potential new multifamily development projects in particular,” says Danny Kaufman, a Chicago-based managing director for commercial real estate broker HFF. “There’s a lot of focus on new deals, and there's been significant tightening on lending standards compared to this time last year. This has had a significant negative impact on the financing for marginal projects.”
Construction-to-permanent loan executions, such as the FHA’s 221(d)(4) program, can be found on a limited basis in the private sector, as well. Some life insurance companies are willing to do construction-to-perm loans, but their sweet spot is relatively small—it takes a unique project, usually built by a long-term holder, to whet their whistle.
For merchant developers, shorter-term floating-rate options from commercial banks make much more sense but are becoming a bit more expensive as lender spreads—the space between the benchmark LIBOR rate and the all-in rate—have bumped up over the past year.
“Spreads have generally widened in the bank community—the commercial banks are clearly looking to make more-profitable loans,” Kaufman says.
Affordable Not Immune
The same dynamic is happening in the affordable housing world, but it’s a tale of two cities.
Many commercial banks, hungry for Community Reinvestment Act (CRA) credits, will typically be aggressive in vying for new deals in major metros, such as New York, San Francisco, Chicago, Miami, and Washington, D.C. In such markets, lender spreads on new affordable housing are contracting, not expanding.
But once you step away from the major money centers, spreads are widening in areas that aren’t densely populated by CRA-motivated banks.
That all-in rate volatility is driven partially by regulatory changes that banks are dealing with in the wake of the Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010, lenders say.
“We're seeing pricing change as a result of changing capital requirements associated with regulatory requirements, especially for letters of credit,” says Sindy Spivak, a senior vice president of community development banking at Bank of America Merrill Lynch. “The additional capital costs have influenced and will continue to influence pricing of construction financing.”